Mother of all buying opportunities, again

MichaelA. Gayed

Michael A. Gayed, CFA, winner of the 2014 Dow Award, is chief investment strategist and co-portfolio
manager at
Pension Partners, LLC., an
investment advisor which manages mutual funds and separate accounts according
to its ATAC (Accelerated Time and Capital) strategies focused on inflation
rotation. Prior to this role,
Gayed served as a portfolio manager for a large international investment group,
trading long/short investment ideas in an effort to capture excess returns. From
2004 to 2008, Gayed was a strategist at AmeriCap Advisers LLC, a registered
investment advisory firm that managed equity portfolios for large institutional
clients. In 2007, he launched his own long/short hedge fund,
using various trading strategies focused on taking advantage of stock market
anomalies. Follow him on Twitter @pensionpartners and YouTube
youtube.com/pensionpartners.

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Back on Jan. 18 here on MarketWatch, in the face of tremendous negativity over the euro zone and bearish sentiment, I argued that European financials would be the "Mother of All Buying Opportunities."

At the time, it seemed like an absurd idea. How could European markets perform well given its sovereign debt crisis? How could the equity values of European financial institutions do anything but decline? The media was fixated on a 2008 repeat, scaring the public with pundits calling for the end of the world.

‘For us to make this comeback, we have to be more aggressive, show more aggressive play. They just seemed a little bit tight this morning. Tomorrow they need to come out firing hard early.’
— Dean Johansen

None of that happened. The contrarian trade for 2012 was the bet on reflation. Paranoia over Lehman 2.0, which many were so convinced of, resulted in predictable actions by SuperBen and the League of Extraordinary Bankers. The European Central Bank took out its scissors to cut off the tail risk of an economic collapse, and the Federal Reserve continued its policy of escalating commitment. And all the while, it was intermarket analysis that revealed true market behavior, as price warned the nouveau bulls of the mini-corrections of April-May and late-September/mid-November. Price also warned the bears that the enviornment favored market melt-ups afterwards.

As I noted on CNBC, one of the most underreported stories since the Summer Surprise call of an end to the end of the world trade is that Europe is indeed having its 2009 moment. Take a look below at the price ratio of the iShares MSCI Europe Financial Sector ETF
EUFN, -1.63%
relative to the S&P 500
SPY, -0.87%
As a reminder, a rising price ratio means the numerator/EUFN is outperforming (up more/down less) the denominator/SPY. Click here for a larger chart.

Notice the immense outperformance of European financial stocks since the late July low as Draghi suited up to do whatever it would take to save the euro. Since then, the sector on average is up north of 40%. The surge has caused the most hated sector in the world to outperform the U.S. stock market for 2012. Money very aggressively began betting that the world would keep spinning. Tactically rotating around stocks and bonds based on intermarket trend analysis and playing European financials within risk-on environments would have been hugely profitable.

But what happens now? I suspect financials broadly will continue to outperform, but more so in the U.S. and in emerging markets. Regardless, we must consider the implications of such strength in European financials. Strength in financial institutions means money is betting that a recovery in the economies of Europe is coming in 2013. Increased lending and yield curve steepening at the end of the day means that the market is betting on a better environment for Europe, which in turn likely means a better environment for the entire globe. While the great re-allocation out of bonds and into stocks did not happen in 2012, we may yet be on the verge of it entering 2013.

Our ATAC models used for managing our mutual fund and separate accounts remain in equities and continue to suggest that the move higher and melt-up in stocks is not over yet. The fiscal cliff countdown to new all time highs is ticking with every day that goes by, and continued leadership in financials both abroad and domestically
XLF, -0.70%
is increasing the speed of time.

This writing is for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction, or as an offer to provide advisory or other services by Pension Partners, LLC in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Pension Partners, LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.

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